Ford Inc. is trying to develop an asset-financing plan. The firm has $400,000 in temporary current assets and $300,000 in permanent current assets. Ford also has $500,000 in fixed assets. Assume a tax rate of 40 percent.
a. Construct two alternative financing plans for Ford. One of the plans should be conservative, with 75 percent of assets financed by long-term sources, and the other should be aggressive, with only 56.25 percent of assets financed by long-term sources. The current interest rate is 15 percent on long-term funds and 10 percent on short-term financing. Compute the annual interest payments under each plan.
b. Given that Ford’s earnings before interest and taxes are $200,000, calculate earnings after taxes for each of your alternatives.